Forecast: The New Reality of Less Mobility
authors Patrick O'Toole
The research experts of the remodeling market—economists from universities and associations, building product executives and others—gathered for two days last month to examine the outlook for remodeling and home improvement activity. It was the annual Home Improvement Research Institute (HIRI) summit. Most attending agreed that remodeling activity will be very strong in 2019 and beyond. Beneath the surface, however, the industry’s fundamentals are quite complex and changing.
According to a newly released forecast from John Burns Real Estate Consulting (JBREC), the market is expected to top $372 billion in 2018 and rise to $393 billion by 2021. Similarly, the Joint Center for Housing Studies of Harvard University’s Leading Indicator of Remodeling Activity (LIRA) shows strong growth through the end of 2019. There are many contributing factors to this outlook: a strong economy, which grew at 4 percent this past summer; very low unemployment; high consumer confidence; and real gains in wages. But there are complicating factors too.
We are now in the longest business cycle in U.S. history. Next June it will be 10 years old, well past traditional cycles. The overall housing market is not rebounding like it has over the past century. New construction building, for example, has not fully recovered and is lagging for a number of structural reasons: rising unaffordability, a lack of housing in growing markets, and a decrease in housing mobility. So the question is not whether there will be a period of slower growth on the horizon. It is a question of when.
One key to emerge in understanding the current market is the growing length of time Americans own their homes. People aren’t moving as much as they once did. Today, the mobility rate—the average number of years between moves—stands at nearly 10 years, well above the 5.6-year average just a few decades ago.
“Mobility is a bit of a puzzle,” says Kermit Baker, who founded and manages Harvard’s Remodeling Futures Program. “It’s a more fundamental question: Why are we moving less? Historically, about 80 percent of moves have been for basically any housing locational issues, and 20 percent are for long-term family or job issues. The second category has stabilized and is starting to head up again. These are people moving from Chicago to Los Angeles to take a new job. That seems to be about as common as it used to be. It’s within metro areas, or even within neighborhoods and communities, where moves are less frequent. This would be someone who moves from a 1,500-square-foot house to a 2,500-square-foot house, or who wants to move for better schools.”
Recent statistics report prices for homes have risen steadily as have mortgage interest rates. And according to Baker, the result is a very high premium for the luxury of moving to another home—something people did frequently in past decades. The result: People are staying in homes longer, and they are making investments in them. Some are discretionary projects like new kitchens and baths. Others fall into the repair and replacement category—energy-efficient windows, a new HVAC system or fiber cement siding, among many other project types.
For industry researchers, it also means that existing-home sales figures, which hit 7 million units nationally in 2007, is much less indicative of future remodeling activity than it once was. Its usefulness as a gauge has diminished. Today, existing-home sales sit at approximately 5 million units annually, and it is set to grow at a tepid 2 percent over the next two years, says Lawrence Yun, chief economist for the National Association of Realtors (NAR). Others are less optimistic about home sales. JBREC is forecasting a net loss of existing-home sales over the next few years, as home prices continue to rise and a lack of mobility continues shake things up.
“We’re in this situation where existing- home sales is clearly negative, yet we’re seeing really impressive growth. And I think what we’re discovering is that, in all the other cycles, existing-home sales was tied to the whole overall housing market,” explains Todd Tomalak, senior vice president with JBREC. “We’re seeing that existing-home sales is slowing down because people aren’t moving as much. We’re seeing this lock-in effect. But as long as there’s home-price appreciation and wage growth, remodeling remains strong.”
Market Positives to Consider
The remodeling and home improvement market is big and growing. Conventional wisdom from last month’s HIRI gathering is that momentum will carry it forward for the next several years—even at a time when the larger economy is likely to cool down from its decade-long boom. What follows is a list of factors from John Burns Real Estate Consulting and others that bode well for remodeling.
Real median income
Not only has there been a big growth in the number of jobs in the economy, which has pushed the unemployment rate to record lows, but real wage growth is inching up. JBREC’s remodeling forecast assumes a 1.5 percent real income growth in 2018. They estimate that each 1 percent increase in real median income drives 2.1 percent higher spending per big project remodeling (projects over $5,000) and 2.9 percent more small project remodels (projects under $5,000).
The vast majority of metro markets in the United States have fully recovered from the Great Recession. Chicago and other midwestern markets are notable exceptions, but they too are nearly back to peak levels of home prices. The JBREC forecast includes an assumption of a 6.2 percent home-price appreciation in 2018 and a 4.6 percent rate in 2019. They estimate that each 1 percent of real appreciation drives 1 percent incremental higher average project size for both big and small projects, as well as a 1 percent increase in average small project spend per remodel.
Age of housing stock
In the shift from being a predominantly new-construction-based housing market to one more in balance with remodeling and repair, the aggregate age of the country’s housing stock is rising. Plenty of research from Harvard and JBREC links remodeling and improvement activity with aging stock. It has been shown, for example, that homes more than 45 years old are often in desirable neighborhoods and require some very large budget projects for both systems and improvements. According to JBREC, 65 percent of the 77 million owned homes will be 30-plus-years-old in 2019. They estimate that 24-year-old homes have the most remodels and that spending per remodel rises about 0.3 percent per year after the age of 30 years.
Funding for remodeling projects is changing. New companies like SoFi and GreenSky are making unsecured loans in amounts upwards of $50,000. The more traditional number to follow is home equity line of credit withdrawals. Last year the new tax law mandated that all HELOC dollars were to be spent on home improvement in order to be deductable. JBREC expects a 5 percent increase in total HELOC balances in 2018, ending slow deleveraging in revolving home loans since 2009.
JBREC estimates that a 1 percent increase in HELOC lending per household drives an additional $133 million in big project remodeling. In addition, each 1 percent increase in home equity increases the number of small project remodels by 1.2 percent.
Another factor that bodes well for remodeling in the coming years is the demographics of the country. Approximately 75 million baby boomers are retiring at a pace estimated to be 10,000 per day. This group is benefiting from a strong stock market and a resurgence of home equity due to rising prices. And more than previous generations, they are tending to age-in-place and therefore invest in long-term upgrades. Harvard’s Baker says the Remodeling Futures Steering Committee has been studying the coming phenomenon of accessibility upgrades, and there’s every indication that it is tracking to have an impact in the near term.
The millennial generation is 82 million strong and offers the biggest potential opportunity for the housing market—both new construction and remodeling, experts say. According to NAR’s Yun, 1990 was the biggest birth year for millennials and, because of bad luck, they came out of college during the Great Recession, which has slowed their ability to form households and enter the housing market. “If you see a 28 year old,” Yun says, “give them a hug.” Household formations are on the rise, and those younger cohorts will certainly help remodeling activity over the coming decade, experts say.
Uncertainties and Negatives
The remodeling market is also navigating its share of uncertainty and outright drags on demand and sales. What follows is a list of factors from JBREC’s Tomalak, Harvard’s Baker and NAR’s Yun.
The shortage of skilled labor has been ongoing for many years. Some at the HIRI conference estimated it would take a generation to work itself out. Short-term fixes, like guest-worker programs, are not even on the table at this point. But it is estimated that the market could be as much as 10 percent bigger if skilled labor was readily available to meet current demand. JBREC and others expect labor shortages to continue in 2019.
According to JBREC, labor availability affects revenue, and we have estimated that labor shortages will keep professional remodeling growth 2 to 3 percent lower than would have occurred without labor constraints. The exact impact will be very hard to quantify.
As previously discussed, existing-home sales are well below peak. NAR’s Yun is predicting 4 percent growth over the next two years. JBREC expects 5.4 million existing-home sales in 2018 and 5.2 million in 2019.
The relationship of resales to remodeling activity is well documented. According to JBREC’s Tomalak, “More sales drives more big project remodeling, but it also lowers the amount spent per big project remodel due to the value-focused mix of projects undertaken on recent-mover homes. Each 100,000 increase in annual resale sales drives a 0.1 percent increase in big project remodels, which represents about 10,000 incremental big project remodels at current levels. Each 10 basis-point increase in the rate of turnover of the housing stock causes -0.5 percent lower spending per big project remodel and -1.3 percent lower spending per small project remodel.”
Building materials prices
Demand for building products is rising, which pushes prices higher in many categories—from gypsum board to appliances. In some categories, namely framing lumber, prices are higher due to newly imposed 20 percent tariffs on Canadian lumber. Since last year the price of lumber is up more than 50 percent, according to Random Lengths, a website that tracks lumber prices. In addition, new tariffs on imported steel, cabinets and other remodeling products are pushing prices higher. Remodelers have no choice but to pass those costs along to their customers. So far it has not impacted the demand for services, but over time that may change.
Reduction in property-tax deductions
The 2017 tax-reform bill capped the dollar amount that can be deducted for state and local taxes (SALT) at $10,000. Most places around the United States charge property taxes on homes well below this level, so the impact was felt in big cities and big city suburban areas—like Boston, Washington, D.C., San Francisco and Chicago. Homeowners in high-tax states like Connecticut, New Jersey and New York were hard hit by this new cap. For some homeowners, their perception of future returns on discretionary remodeling activity is now diminished and the tax law is therefore a nascent drag on remodeling.
Yun from NAR cites statistics showing that, while home prices have appreciated 45 percent in the aggregate over the past several years, real incomes have risen only 15 percent. This means the gap between what potential homebuyers can afford is getting wider, particularly in fast-rising property value areas like Seattle, San Francisco, Los Angeles, Boston, New York, Miami and Washington, D.C.
“I think that’s a trend we’ve been seeing for quite a while,” Harvard’s Baker notes. “Average incomes are not keeping up with average house prices, and that’s creating a serious affordability issue.”
A new housing bill introduced in Congress last month tries to address the growing affordability issues in the country, which in effect locks out many younger potential buyers from entering the market. The NAHB voiced support for parts of the bill, and only time will tell if the issue gets addressed.
Rising interest rates
After nearly a decade of cheap money, the Federal Reserve has begun raising interest rates. NAR’s Yun says his forecasts include two more rounds of rate hikes yet in 2018, followed by two or three more rounds in 2019. Current 30-year fixed mortgage rates are 4.5 percent, which is very low historically, but many owners took advantage of rates near 3 percent over the last decade, as previously discussed. In addition, higher rates further limit the number of people who can enter the housing market with its rising prices in general.
Overall, the outlook for remodeling and home improvement looks strong for the foreseeable future, but the picture is nuanced and complicated. For example, the boom in rental improvements, driven by a spike in multifamily developments around the country, has slowed. The market is shifting, experts say, to owner remodeling where big projects will continue strong over the short term and then, over time, will pivot to a market driven by smaller projects.
“We’re definitely seeing certain segments like rental big project spending clearly slowing,” Tomalak explains. “There are very different stories depending on segment. Big project improvements for owners are still doing great, and we’re anticipating that’s going to continue, as well as small project improvements for owners. Then as we get later in this cycle, we’re going to see a pivot towards more small project spending.” | QR